How robo-advice is transforming financial services

13 Feb 2018

Cheap, straightforward and easy to use: taking robo – or automated advice is an increasingly popular way for people to decide how to invest for the future.

Last year, accountancy firm Accenture found that 78% of global consumers would be happy to use robo-advice to make investment decisions, with many feeling it would be faster, cheaper, and more impartial than human advice.

Regulators are also backing robo-advice as a way of offering more people access to investment advice, either individually or through their employers.

As of October 2017, 20 robo-advice firms ranging from little-known start-ups, to familiar names such as NatWest had joined the Financial Conduct Authority (FCA) Advice Unit, which provides regulatory feedback to firms developing automated services.

Bob Ferguson, head of Strategy & Competition at the FCA, said: “We see automated advice as a valuable vehicle to help tackle the issues faced by those consumers who are unserved or underserved by more traditional advice models.”

How robo-advice works

To do this, they must first gather data on their clients by asking questions about their income and expenses, assets and liabilities, goals, and tolerance for risk.

Lynn Smith, a director at automated pensions advice service Wealth Wizards, said “Data required for our algorithm includes when and where people want to retire, how much they earn and their marital status.”

The algorithm then uses this information to make recommendations about how much and where a client should invest.

The solution chosen could, for example, involve regular investments in a combination of tracker funds designed to mimic a particular stock market index or sector, and fixed-income bonds.

The rise and rise of robo-advice

The number of robo-advice services available has exploded in recent years, with early adopters of the technology – such as online wealth manager Nutmeg – enjoying rapid growth.

Launched in 2012, the company now has assets worth £1 billion under management. And the trend shows no sign of slowing in 2018. Recent entrants to the market include insurer Aviva, while HSBC is among the big name companies planning to launch a robo-advice service this year.

But why is robo-advice such a hit with businesses and consumers alike?

The quick answer is simple: robo-advice services are cheap to run and cost investors a fraction of the amount they would have to pay a traditional adviser.

Figures from UK adviser network Unbiased indicate that at-retirement guidance on savings of £100,000 would cost at least £1,000 with a human adviser – around three times the fee you might pay a robo-advice service.

Smith said, “The real power of robo-advice is that it makes advice accessible and affordable to everyone, not just those with a lot to invest.”

She believes the pressure on employers to better prepare their staff for retirement will continue to drive further demand for robo-advice. “We are seeing increasing demand from employers to provide staff with digital retirement advice solutions,” Smith said.

However, offering such cheap advisory services is a double-edged sword for businesses. Despite its success at attracting customers, Nutmeg’s latest accounts show it made a loss of £9.3 million in the year to December 31, 2016.

The limitations

Most robo-advisers admit that their systems cannot currently handle all enquiries.

John Perks, managing director of life and pensions at insurer LV=, which launched the Retirement Wizard robo-advice service in summer 2015, said: “Human advice is still required at times, for example when a client needs advice spanning a number of different tax regimes.”

As robo-advice can only work with the information it has, the accuracy of its recommendations is also entirely dependent on the client providing full and correct data about his of her affairs.

And from a regulatory perspective, the system must be foolproof to avoid mis-selling.

“A robo model can help mitigate some of the risks associated with human advisers,” Ferguson said. “But the design of the model is crucial – a poorly designed model could lead to systemic mis-selling.”

The importance of human interaction

While today’s youngsters, growing up using mobile phones and tablets from an early age, may feel perfectly comfortable dealing with a robo-adviser once the time comes, many investors also still seek the reassurance of face-to-face advice.

Gera said: “While financial institutions may expect to benefit from internal cost reduction by providing customers with a ‘robo’ option, our research found that consumers also expect first-class human interaction.”

A hybrid approach that combines cost savings with ongoing human advice is therefore expected to be the weapon of choice for many companies, in the short term at least.

“Using robo-advice can cut the time it takes an adviser to provide regulated advice for a client from nine hours down to just 90 minutes,” Perks said.

“This could transform companies’ back office operations, allowing them to offer a cheaper service.”

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